Is Inflation in South Africa a Structural or Monetary Phenomenon?

Abstract

Aim: The aim of the study is to investigate whether or not inflation in South Africa is a structural or monetary phenomenon. Study Design: Case Study. Place and Duration of Study: South Africa. Time series data ranging from 1965 to 2006. Methodology: The study employs unit root testing, co-integration analysis, Fully Modified Ordinary Least Squares (FMOLS) regression, Two-Stage Least Squares (2SLS) regression, Error Correction Model and pair wise Granger Causality Test technique to analyze annual time series data from South Africa. Results: The findings suggest that in the short run, openness of the South African economy, nominal interest rate, inflation in USA, broad money supply and government spending are not likely to influence prices in South Africa. Instead, the paper finds GDP as a significant determinant of prices in South Africa in the short run. In the long run without controlling for structural breaks, openness of the South African economy to the rest of the world, inflation in the USA, GDP, broad money supply and size of government are significant determinants of inflation in South Africa. However, when we control for the Asian stock market crash and the collapse of the apartheid system, only openness of the South African economy to the rest of the world and broad money supply are the significant determinants of inflation. Nominal interest rate is not a significant determinant of inflation in South Africa. Granger Causality Tests reveal that there is uni-directional causality from inflation in the USA and GDP to inflation in South Africa as well as from inflation to broad money supply in South Africa. Conclusion: The study contends that inflation in South Africa is a structural as well as monetary phenomenon. To the extent that inflation in the USA as well as openness of the South African economy to the rest of the world demonstrates robust influence on inflation in South Africa, it is submitted that policy makers in South Africa could moderate inflation by strengthening international competitiveness of the South African economy.